Segmented Trading Markets

54 Pages Posted: 1 Jun 2022 Last revised: 11 Dec 2023

See all articles by Kerry Back

Kerry Back

Rice University - Jesse H. Jones Graduate School of Business

Oguzhan Celebi

Stanford University - Department of Economics

Ali Kakhbod

University of California, Berkeley

A. Max Reppen

Boston University - Questrom School of Business

Date Written: May 1, 2022

Abstract

We study competition and endogenous fragmentation among heterogenous trading venues that differ in technology (fast vs. slow), where traders can dynamically choose which venue to trade in. We show that technological improvements increase trading speed, but may also heighten differentiation, which reduces competition, leads to higher trading fees, and potentially reduces trading volume and welfare. Improvements in the slower venue lead to increased trading speed, decreased differentiation, and thus increased trading volume and welfare. Conversely, the effect of improvements in the faster venue is generally ambiguous and depends on the extent of traders’ patience, the frequency of their preference shocks, and the competition between venue owners. We further study the effect of technological improvement in one of the venues when both initially have the same trading speed. We find that if the trading speeds are initially slow enough, the technological improvement will increase trading volume and trader welfare. Conversely, if the trading speeds are initially fast, the increase in trading fees outweighs the speed advantage that comes with technological improvement, leading to decreased trading volume and trader welfare.

Keywords: OTC vs Exchange. Heterogeneous venues. Fragmentation. Competition.

JEL Classification: G12, G2, D4, L13.

Suggested Citation

Back, Kerry and Celebi, Oguzhan and Kakhbod, Ali and Reppen, Anders, Segmented Trading Markets (May 1, 2022). Boston University Questrom School of Business Research Paper No. 4119978, Available at SSRN: https://ssrn.com/abstract=4119978 or http://dx.doi.org/10.2139/ssrn.4119978

Kerry Back

Rice University - Jesse H. Jones Graduate School of Business ( email )

6100 South Main Street
P.O. Box 1892
Houston, TX 77005-1892
United States

Oguzhan Celebi

Stanford University - Department of Economics ( email )

Landau Economics Building
579 Serra Mall
STANFORD, CA 94305-6072
United States

Ali Kakhbod (Contact Author)

University of California, Berkeley ( email )

Haas School of Business
2220 Piedmont Ave
Berkeley, CA 94720
United States

Anders Reppen

Boston University - Questrom School of Business ( email )

595 Commonwealth Avenue
Boston, MA MA 02215
United States

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